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SEC Pressed JPMorgan on Prop Trading Before Loss

Agency inquired about bank's trading starting in mid-2011.

JPMorgan Chase & Co. was pressed by U.S. regulators to strengthen investor disclosures on proprietary trading almost a year before a wrong-way bet on credit derivatives cost the bank at least $6.2 billion.

The Securities and Exchange Commission asked Chief Financial Officer Douglas Braunstein to provide information about the bank’s so-called principal transactions revenue and proprietary trading, according to letters between the agency and the company from June 15 of last year through Feb. 17 that were made public yesterday. Proprietary trading, in which banks make bets with their own money, would be restricted under a Dodd-Frank Act provision known as the Volcker rule.

“It is not clear how much of this revenue was generated from your proprietary-trading business, hedge-fund activity and private-equity funds that would be affected by the Volcker rule,” Suzanne Hayes, assistant director of corporation finance at the SEC, wrote in the initial letter. JPMorgan disclosed in a previous filing that it liquidated proprietary holdings within the equities unit and “it is not clear if this was the extent of your proprietary-trading business,” she wrote.

The letters preceded JPMorgan’s assertion in May that a portfolio of credit derivatives, which bet against the creditworthiness of U.S. companies such as Wal-Mart Stores Inc., was a hedge against a weakening economy rather than a proprietary bet. The position was amassed by trader Bruno Iksil, who came to be known as the London Whale because his wager was big enough to move the market.

JPMorgan, the biggest U.S. bank by assets, has said the trade was made through the company’s chief investment office and resulted in a loss in the first nine months of this year of more than $6.2 billion. Chief Executive Officer Jamie Dimon, 56, has said that figure could increase.

The U.S. Senate Permanent Subcommittee on Investigations is probing the loss, and the panel’s chairman, Michigan Democrat Carl Levin, called it a “textbook” example of why regulators need to tighten the Volcker rule. The Ohio Public Employees Retirement System and other pension funds are suing JPMorgan for turning the CIO into a “secret hedge fund” while claiming it was supposed to mitigate risk.

Braunstein, 51, told the SEC that the bank had proprietary trading positions in its fixed-income, commodities and equities desk within the investment bank. Trading with the firm’s own money represented a “de minimis portion of the revenues and earnings of the investment bank,” Braunstein said in a July 1 response to the SEC.

Operational Risks

JPMorgan defines proprietary trading as trading in securities, derivatives and futures “principally to realize gains from short-term movements in prices for the firm’s own account.”

The chief investment office manages the bank’s operational risks such as those on interest rates and foreign currencies, Braunstein said.

These activities “are designed to mitigate the firm’s structural risk and preserve the firm’s longer-term capital value through economic cycles and, as such, are clearly distinguishable from proprietary trading activity,” Braunstein wrote in the July 1 letter, which the bank asked the SEC to keep confidential.

Mark Kornblau, a JPMorgan spokesman, declined to comment on the company’s exchanges with the SEC.

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